CU Student Loans May Dodge Asset Bubble, Delinquency Rates

From the Wall Street Journal to the activist blog Zero Hedge, economists and pundits have been actively debating this year whether or not a student loan asset bubble exists and if so, when it might pop.

The chatter intensified April 25 when Sallie Mae, the country’s largest originator of federally insured student loans, scrapped a $225 million debt offering. The Wall Street Journal reported the lender pulled the plug on the deal because investors felt the 3.5% interest rate offered wasn’t enough to offset risk. Included with the article was a graph that showed as of year-end 2012, more than 31% of all borrowers were 90 days or more past due on their student loans.

Those numbers could make credit unions, still smarting from corporate credit union mortgage -backed security losses and loan losses on their own books, shy away from the private student loan market in a time when the loans are one of the few products with consumer demand.

However, CUNA Chief Economist Bill Hampel said despite the asset bubble talk, student loans are a good product for credit unions.

“One might talk about a bubble in the cost of higher education, that the cost has been pushed higher and higher, and at some point, the price has to burst,” Hampel said. “But it’s different from the housing bubble because student debt isn’t really tied to yesterday’s cost of a college education.”

Instead, the ability to repay depends upon the future earnings of students. And, Hampel said, despite higher than normal unemployment and underemployment rates for recent college graduates, the income differential between college grads and those without a college education still compares favorably to the average amount owed.

“Last year, the average total indebtedness of all students who had some debt was $25,000. That’s not huge,” Hampel said. “However, if it were common for most students to come out of college with $80,000 to $100,000 in debt with an entry level salary of $30,000 to $50,000, that would be untenable.”

While Hampel did admit that access to credit has inflated the price of higher education, he also said tuition costs have increased because campus technology hasn’t improved, saying the classroom experience is “still an old person standing in front of a chalkboard as it’s always been.” Dramatic reductions in government financial support has also prompted tuition increases, he noted.

The fact that the private student loan delinquency rate is significantly lower than that of federal student loans also decreases credit risk for credit unions, said Jim Holt, vice president of sales operations for CU Student Choice, a private student loan CUSO in Washington.

Holt said the most recent 60-day delinquency rate for all private student loans is 5.4%, and according to NCUA financial reports, private student loans at credit unions had just a 1.46% 60-day delinquency rate. Furthermore, he added, CU Student Choice loans have an even lower 60-day delinquency rate of 0.89%.

How does the CUSO produce such impressive loan quality? Underwriting, Holt said. CU Student Choice employs strict underwriting standards that consider only the best FICO scores, require a co-signer, and loans are made to students at certified, traditional degree-granting public and private four year institutions, according to Holt.

Additionally, the CUSO offers a repayment relief program for underemployed college grads that modifies the loan with a graduated repayment structure and amortizes outstanding balances over a 40-year term.

“This is exactly the kind of solution the (Consumer Financial Protection Bureau) has been asking lenders to put into play,” Holt said. “And then once (a borrower) finds that entry level career job, there’s no prepayment penalty. It really helps prop up those who are struggling to start their career after graduation.”

How does CU Student Choice skirt the NCUA regulation that prohibits credit unions from making consumer loan with terms of more than 15 years? Holt said the loans are structured as open-ended, unsecured lines-of-credit, which also feature an adjustable rate that protects against interest rate risk. The CUSO also offers a closed-end student loan product, he said.

Congressional hearings this year by the House Education and Workforce Committee and the House Financial Services Committee produced witnesses who testified that extending terms could make college debt payments more manageable for underemployed graduates. CUNA Senior Vice President of Legislative Affairs Ryan Donovan said during an April 22 press call that a provision that would extend credit union student loan terms beyond 15 years could even find its way into regulatory relief legislation.

Hampel said a borrower’s ability to repay a student loan increases as the graduate progresses in his or her career. However, while credit risk is reduced with an extended term, Hampel said interest rate risk would increase for the closed-end, fixed rate loans.